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# Solved Kellogg Case Study Solution: The Return of the Loan: Commercial Mortgage Investing after the 2008 Financial Crisis (Download Now)

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## Description

Solution Pages: 5

Word (.docx) & Excel (.xlsx)

### Questions Covered in the Solution

1) Construct the promised cash flows to directly lending \$5.8 million in commercial mortgages using the information contained in Exhibit 6. Estimate the expected return on direct lending.

2) Construct the promised cash flows from investment in each of the five principal receiving bonds. Disregard the X bond.

3) Qualitatively discuss the benefits and costs of making direct mortgage investments rather than an investment in the D-bond of this particular CMBS deal. As part of this discussion, you should consider the relative expected rates of return for the two investment strategies.

4) Review the underwriting of each of the six loans in the CMBS deal. Based on your review of the loan documentation, which loans in the CMBS deal cause you the most concern about future potential losses

5) Based on your analysis of Question 4, identify an adverse economic scenario that you believe is most likely to cause at least one of the CMBS loans to default. The scenario should outline the economic reason/event that would lead to a borrower being unable to satisfy its debt service requirements. Assign a probability to this scenario, calculate the expected return to the affected loan, and calculate the expected cash flows of the D-bond.

6) Determine the expected return you would require if purchasing the D-bond. Using that return expectation, calculate the face value you would expect to acquire with your \$5.8 million purchase. That is, at what price (relative to par) would you need to acquire the D-bond to prefer the D-bond over direct mortgage investment?

### Sample of Solution

1) Construct the promised cash flows to directly lending \$5.8 million in commercial mortgages using the information contained in Exhibit 6. Estimate the expected return on direct lending.

As per the information given in the Exhibit 6, there are certain ranges of possible returns which lenders can earn while lending in commercial mortgages. For this particular case, the amount of \$5.8 million can be loaned out through 2 commercial mortgage loans which can have the following features

Loan 1:

Principal: \$ 2 Million

LTV: 60%

Coupon: 7.5%

Loan Term: 10 years

Application and Origination Fee: \$ 35,000

Loan 2:

Principal: \$ 3.8 Million

LTV: 65%

Coupon: 8%

Loan Term: 10 years

Application and Origination Fee: \$ 53,000

However, with the above two mortgage loans, a collective return of 8.17% can be realized over the period of investment. Calculations in Excel

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3) Qualitatively discuss the benefits and costs of making direct mortgage investments rather than an investment in the D-bond of this particular CMBS deal. As part of this discussion, you should consider the relative expected rates of return for the two investment strategies.

Investment in the direct mortgage is more viable in the sense that the physical Asset is in front of you, you can go into the place and see it, this will give you realistic evolution of possible risks attached to the investment, as compared to a CBMS deal. Furthermore, bond prices are not yet known due to which it’s impossible to realize the potential of their returns. Whereas, in commercial mortgages the price of the underlying assets is realized to be more stable as compared to CBMS bonds prices which are more volatile comparatively, making them less insured in the case of default.

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4) Review the underwriting of each of the six loans in the CMBS deal. Based on your review of the loan documentation, which loans in the CMBS deal cause you the most concern about future potential losses

CMBS deal involves six different mortgage loans which can be listed as below

1. South Plains Mall
2. Four New York Plaza
• Cole Credit Property Trust Retail Portfolio 1
1. Cole Credit Property Trust Retail Portfolio 3
2. Developers Diversified Realty Retail Portfolio
3. Bank of America Plaza

South Plains Mall

South Plains Mall is in really good condition when it comes down to the ground reality. The LTV is very decent; the debt yield is also high. Since, the mall had been renovated last year, so there’s not going to be a major renovation in the near future. The appraisal value is also good. The only concern is that its tenants that cover a good area of the mall are not rated well. Most of its leases are expiring in the next few years. The loan was originated by RBS hence better back-checks can be expected.

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